Uneven shocks

Uneven shocks and monetary policy

With uneven shocks some sectors may be experiencing insufficient demand and unemployment, while others may be subject to supply constraints, causing shortages and inflationary pressures. When uneven shocks have a persistent nature, the economy should readjust by moving productive resources from declining sectors, that suffer from insufficient demand, towards growing sectors where demand is expanding. Can excessively easy monetary policy hamper the reallocation process? This is the question that Guerrieri et al. are attempting to answer in this paper. They build a stylized model that departs from workhorse macroeconomic models in important ways as they incorporate realistic features such as multiple sectors, downward wage rigidities and costly labor reallocation.

Since unemployment and inflation are both costly in our model, the amount of factor reallocation across sectors may be inefficiently low. The reason is that when workers move from sector A to sector B, their private choice has social benefits that they do not internalize: it makes it easier for other workers to find a job in sector A, by reducing congestion in a demand-constrained labor market, and it eases the supply constraints in sector B, reducing inflation in that sector. This means that if easy policy discourages reallocation, it is optimal to choose a more contractionary stance, while if easy policy encourages reallocation, it is then optimal to choose a more expansionary stance.

Monetary Policy in Times of Structural Reallocation
Authors: Veronica Guerrieri, Guido Lorenzoni, Ludwig Straub
From: University of Chicago, Northwestern University, Harvard University

Uneven shocks and fiscal policy

In this paper Gourinhas et al. examine a different type of unevenness: countries were differentially exposed to COVID-19 and implemented different policy packages. As a result, countries are facing different speeds of recovery with potentially different corporate and public sector vulnerabilities. Against this background fiscal policies have the potential to generate important effects and spillovers, across firms, sectors and countries. Gourinhas et al. develop a framework that combines a model of firm behavior with detailed firm-level financial data covering 27 countries—18 advanced economies (AEs) and 9 emerging markets (EMs) in order to evaluate whether fiscal policies were able to to provide enough liquidity to struggling firms and support aggregate demand both at home and abroad.
They find that:

• A sizeable share of the global economy is demand-constrained under COVID-19, especially so in EMs;
• Globally, fiscal policy helped offset about 8% of the downturn in COVID, with a low ‘traditional’ fiscal multiplier. Yet it significantly reduced the share of demand constrained sectors, preserving employment in these sectors;
• Fiscal policy exerted small and negative spillovers to output in other countries but positive spillovers on employment;
• A two-speed recovery would put significant upwards pressure on global interest rates which imposes an additional headwind on the EM recovery;
• Corporate and sovereign spreads rise when global rates increase, suggesting that EM may face challenging external funding conditions as AEs economies normalize.

Fiscal Policy in the Age of COVID: Does it ‘Get in all of the Cracks?’
Authors: Pierre Olivier Gourinchas, Sebnem Kalemli-Özcan, Veronika Penciakova, Nick Sander
From: UC Berkeley, University of Maryland, Federal Reserve Bank of Atlanta, Bank of Canada